This invention relates to monitoring financial transactions, and particularly, to mediating an unbalanced market.
The speed in which trades are executed through electronic trading systems provide many benefits. Electronic trading systems can facilitate a large number of market transactions. The greater the number of market transactions, the greater a market's liquidity. In liquid markets, prices are driven by competition; prices reflect a consensus of an investment's value; and trading systems provide a free and open dissemination of information.
While speed and efficiency in electronic markets can enhance trader wealth, these qualities can also increase the adverse affect of a trade that triggers an election of buy or sell stop orders. In a futures market that has few resting orders but many stop orders, an order executed at a limit price can cause a cascading execution of buy or sell stop orders. The triggering and election of these stop orders can seem almost instantaneous, lowering the value of a market in just a few seconds.
A problem may occur when one or more trades bring many stop orders into the market. A fast execution of these stop orders may prevent opposite side orders from entering the market, preventing buyers from competing against other buyers and sellers from competing against other sellers. An onset of stop orders may enter the market in the following sequence:                1. A stop order, triggered by a trade, enters the market at a limit price.        2. The limit price trades almost immediately.        3. A second stop order to buy, triggered by the last trade, enters the market at a higher limit price (or a lower limit price if the order is a stop order to sell).        4. This new limit price trades almost immediately.        5. A third stop order to buy, triggered by the last trade, enters the market at a higher limit price (or a lower limit price if the order is a stop order to sell) and so forth.        
The order processing sequence occurs quickly; so quickly that traders may not be able to prevent the buy or sell stop orders from trading away from the current market prices by entering opposite side orders.
The entire process may be illustrated through a hypothetical E-Mini S&P 500 futures market (“ESM3”). In Table 1, an order entered on the bid side of the market for a quantity of 1 at a price of 873.75, trades. As the order trades, multiple stop orders enter the market, which in turn trade and bringing other stop orders into the market. In the ESM3 market,
TABLE 1ESM3TONQTYBIDASKQTYTONTON 6Stop (88075)5884758737510TON 1TON 7Stop (87875)588475874755TON 2TON 8Stop (87825)588325876755TON 3TON 9Stop (87675)588475879001TON 4TON 10Stop (87525)588475880751TON 5TON 11Stop (87375)1087900TON 12Stop (87375)1087675Incoming187375
Trade 1 Incoming (1-lot) trades with Trade Order Number (TON) 1 (1-lot) at 873.75; TON 12-Stop (87375), TON 11-Stop (87375) are triggered by Trade 1;
Trade 2 TON 12 (9-lot) trades with TON 1 (9-lot) at 873.75;
Trade 3 TON 12 (1-lot) trades with TON 2 (1-lot) at 874.75;
Trade 4 TON 11 (4-lot) trades with TON 2 (4-lot) at 874.75;
Trade 5 TON 11 (5-lot) trades with TON 3 (5-lot) at 876.75;
TON 10-Stop (87525), TON 9-Stop (87675) are triggered by Trade 5;
Trade 6 TON 11 (1-lot) trades with TON 4 (1-lot) at 879.00;
TON 8-Stop (87825) and TON 7-Stop (87875) are triggered by Trade 6.
Trade 7 TON 10 (1-lot) trades with TON 5 (1-lot) at 880.75; and
TON 6-Stop (88075) is triggered by Trade 7.
After the cascading triggers of stop orders trade, the final resting price of the market drops to 884.75.
TABLE 2ESM3QTYBIDASKQTY1988475588325
To mitigate the harmful effects of a cascading trigger of stop orders, some exchanges have adopted policies and procedures that, in the appropriate case, permit the cancellation or busting of selected trades. However, the cancellation or busting of trades does not occur simultaneously and is not in the best interest of market participants. An exchange must first identify the problem and then decide on a solution.
In the hypothetical E-Mini S&P 500 futures market, first the exchange must determine what caused the market movement. Once that problem is discovered, the exchange would then have to decide if the market movement lies outside of a “no-bust range.” In a “no-bust range,” trades executed within a price range may not be subject to cancellation, even if executed in error. Trades executed at prices outside of the exchange's “no-bust range” are considered as quite possibly being beyond normal market forces. Considering the high interdependence of many markets, disruptions may occur in other related markets such as the Nasdaq-100 Index or a larger S&P 500 futures contract that are highly correlated to the hypothetical E-Mini S&P 500.
While such decisions are considered, traders are exposed to serious market risk until a decision is made and until they are notified of the decision. Furthermore, traders will not know if their gains or loses will be reversed. Traders that were short before the cascade of stop order triggers occurred and bought at the bottom of the market may not realize expected gains. Similarly, traders that went long after the market dip could lose their expected gains. Because gains and loses may disappear the instant an exchange announces that trades will be busted, some traders will not spend unrealized money on new trades. Other traders may be forced out of the market until the decision to bust trades is reached to avoid an unexpected margin call.
The present invention is directed to a system and method that overcome some of these potential drawbacks in the prior art.